Is entry-level housing a thing of the past?

Is entry-level housing a thing of the past? (Courtesy ARA Newmark/Newmark Knight Frank)

Andy HellmanSenior managing director, ARA Newmark, Denver

Accessibility to entry-level housing in metro Denver is limited as product is scarce and construction costs soar. Prices for labor and materials are on the rise – contributing to the increasing price tag of new construction projects. Additionally, because of Colorado’s litigious environment surrounding condominiums, developers are focused on products designed for rent. The combination of increased development costs and lack of supply creates a housing market with high financial barriers to entry. The needs, wants and desires of young people also are changing. Most potential first-time buyers are millennials whose spontaneous and dynamic lifestyles are more aligned with the renting model. The coupling of financial hurdles with changing consumer tastes has many industry experts wondering: Is entry-level housing a thing of the past?

It’s very difficult to build entry-level housing in today’s market, limiting the supply of available product for first-time buyers. Developers are facing higher construction costs, which equates to more expensive housing, including condominiums. The estimated price tag to build entry-level product is $225,000-$250,000 per unit. The bill for new construction projects will not be decreasing any time soon. Second-quarter construction costs in Denver were recorded up 3.6 percent compared to 2016, tracking ahead of the national index. It is estimated that these costs will rise 3 to 3.5 percent throughout the rest of 2017, according to Mortenson Construction Cost Index.

The production of entry-level housing is not only limited by high construction costs, but also by regulatory barriers facing Denver area condominium developers. Historically, entry-level product has been largely composed of condominiums or attached housing. Colorado’s controversial condominium environment has greatly impacted developers’ and investors’ interest in attached-housing product, providing a notable deficit in available condominiums. In fact, new construction permits for condominium units only totaled roughly 2 to 3 percent of all permits in 2016, with apartment housing making up the majority (at approximately 60 percent). Today, the limited supply of new condos and the resale of former apartments turned condos make up the affordable housing market. Colorado has not seen significant condo construction since the late 1990s. While recent forward strides in condominium legislation look positive, the immediate effects of the changes and subsequent condo development will not impact the area’s booming apartment market in the near future.

Basing this discussion on an average condo sales price of approximately $320,000, according to the June Denver Metro Association of Realtor’s market trends report, with the addition of property taxes, insurance and homeowner association dues, the final monthly mortgage payment is $1,771, on average (see chart for details). A close look at the financial breakdown indicates the delta between ownership of entry-level product and renting is approximately $200 per month in the Denver metro area, based on the Apartment Association of Metro Denver’s second-quarter report.

For an average condo, with a sales price of $320,000 and the addition of property taxes, insurance and homeowner association dues, the final average monthly mortgage payment is $1,771. This would be in addition to the $64,000 (20 percent) down payment.(Courtesy ARA Newmark)

This marginal price difference, however, is not the main financial hurdle for first-time buyers. The 20 percent down payment of $64,000, in this scenario, is nearly impossible for first-time condo buyers still in the early stages of their professional careers and often burdened with student debt and other financial obligations. Most prospective entry-level buyers simply do not have the earning power to save the amount of money it takes to pay that initial down payment.

Lack of entry-level inventory and financial hurdles aside, renting offers additional benefits that outweigh the potential upsides of condo ownership for many consumers. Mobility options are increased with renting, and the millennial generation is known for craving new experiences, whether in entertainment, employment or living arrangements. Owning requires a different mindset, one that is focused more on stability and continuity. If consumers decide to rent, the costs associated with condo ownership can be focused instead on travel and transportation or on payment of student loans. Renting allows millennials to live close to downtown while also taking advantage of the countless amenities offered by Denver’s newest multifamily projects – something that is not feasible in the entry-level housing market.

What does all this mean for apartment owners in the Denver market? Vacancy rates are low, 5 percent in the Denver metro area, despite record-breaking multifamily construction. This is especially remarkable considering the historic levels of in-migration. With metro Denver’s population expected to increase another 9.5 percent between 2015 and 2020, there will not be enough entry-level housing inventory to keep up with demand. Condo development will increase as legislation is revised, but this alone will not alleviate the pressure on the market. The metro Denver market will continue to blossom with new multifamily developments as all indicators point to a future where entry-level housing is a thing of the past.